Huffaz Seamless Pipe Industries

It's not easy to be a shareholder in Huffaz Seamless Pipe Industries (HSPI) and there are quite a many shareholders in the market - about 23 million - aside from 30 million shares (or 54.8 percent of the total) currently held by the firm's directors, their spouses and their minor children as of June 30 2014.
The reason why owning a stock in HSPI for the weak hearted is not because of the volatility in the firm's stock price - (though anybody who bought the stock in January 2009 is still waiting for that golden dawn). Rather, it's because of the continuous erosion of the firm's top line and consequently its bottom line profits.
ABOUT THE COMPANY Incorporated in October 1983 as a public limited company by shares, HSPI's shares are quoted on both Karachi and Lahore stock exchanges.
The principal object and business of the company is manufacturing and selling of seamless steel pipes and tubes (tubular products), though it's another thing that according to its last annual report, the company's 'mission' and 'vision', its overall corporate strategy and significant policies were not approved by its board - whereas a complete record of particulars of significant policies along with the dates on which they were approved or amended has not been maintained. That's not quite the best practice in terms of corporate governance. But then HSPI is not the only fish from the pond; a huge lot is like that with even more severe corporate governance issues.
Huffaz claims to be the first and only seamless pipes manufacturer in Pakistan. According to its website, the company has diversified into some allied seamless pipes products. As a forward integration, it has established 'coating plant', which began three-layered epoxy coating on pipes from 2012. As a backward integration, the company has its own workshop, for the production of equipment's to be used in seamless pipe industry, known as Huffaz Engineering Workshop (HEW).
Most of the company's earnings, however, still come from seamless pipe segment. With the exception of FY13, seamless pipe segment contributed the most to the firm's gross profits. In their 2013 annual report, HSPI's directors noted that the firm's coating segment produced 172 thousand plus meters as compared to nearly 33 thousand meters in FY12. The directors then added that the production of coating segment will grow by leaps and bounds in the future, which will serve as an independent cash generating segment for the company. Those hopes were apparently dashed in FY14 as sales from the segment fell sharply leading up to gross loss reported by the segment; the latest numbers for FY15 to date are not available.
With its plant, based in Nooriabad, Sindh, the company says it has the latest German technologies & techniques and state of the art imported machinery to manufacture high class products that conform to international standards. And this is why the company says it enjoys leading position in seamless pipe industry in Pakistan, as their products are of "international quality standards". However, be that as it may, the company's exports have been peanuts in the last three years, with local sales also looking southwards during this period.
RECENT FINANCIAL PERFORMANCE HSPI's website doesn't have annual reports for FY10-FY12 for reasons its management would know best. But thanks to the financial highlights in FY14 annual report we do know that the firm's gross margins had been plummeting during FY10-FY12 even as sales grew considerably in those years in tandem with higher production evident from higher level of plant utilisation.
In absence of publically available annual reports for those periods, and the fact that HSPI is hardly covered by anyone in the analyst community - one would have to presume that gross margins eroded on account of higher steel prices, which rose from the lows hit in spring 2009 and continued to rise until spring 2012.
Since FY13, however, leading up to June 2014, HSPI's top line has been on a downward trend. The firm's latest available annual report put the blames on adverse economic factors and unscheduled plant maintenance. It added that there was an "inordinate delay" in transportation of raw material by suppliers which affected their productivity in FY14.
The year to date has been phenomenal for the company with 9MFY15 losses almost halved over the same period last year. HSPI's top line jumped 56 percent year-on-year in 9MFY15 thanks to higher sales orders, whereas gross margins improved from 0.2 percent in 9MFY14 to 8 percent in 9MFY15. This improvement comes on the back of declining oil and steel prices.
However, much of those gains were lopped off by material increases in selling and distribution expenses and other operating charges. In absence of detailed information, it is safe to assume that the former is because of bad debts (the company has had a problem of bad debts in recent past) whereas the latter was due to exchange losses that accounted for 95 percent of total other operating charges in 9MFY15.
OUTLOOK In their 9MFY15 report, the firm's board of directors said that they were optimistic about this year's full year number as well beyond FY15 as numerous orders were in the pipeline as of March 2015. In the years ahead, the company expects orders from oil and gas sector and has pinned its hopes to the TAPI gas pipeline project and to Thar coal projects.
In the more immediate future, the company is looking forward to the imported LNG project. "Local demand is expected to pick up as the government has undertaken to lay down LNG pipeline from Karachi to Lahore," its board of directors wrote in March 2015. We feel that this optimism is misplaced since no new LNG pipeline will be laid out from Karachi to Lahore, as Pakistan already has an excellent gas pipeline network across the country.
Unless Huffaz's board is alluding to some minor regional extensions here and there, we feel that the board statement quoted above is based on misinformation. Perhaps that is why despite HSPI's top line growth in FY to date and the directors' hopes of a promising future ahead, the firm's stock has shredded by a third since December 2014.

====================================================================================

HSPI - Recent financial highlights

====================================================================================

Rs (mn)                         9MFY15    9MFY14      YoY   3QFY15   3QFY14      YoY

====================================================================================

Sales                            1,359       872      56%      380      305      25%

Cost of sales                    1,248       870      43%      376      307      22%

Gross profit/loss                  110         2    5400%        3    (1.5)

Selling & distribution costs        23         5     360%        4      1.5     167%

Admin expenses                      51        34      50%       14       11      27%

Other operating charges/income    (40)        10               (8)      27

Other income                         5         3      67%        3        1     200%

Finance costs                       32        26      23%       11        9      22%

Profit after tax                   (19)      (36)    -47%      (21)      (2)    950%

====================================================================================